There is a lot of talk in the popular press about the long running real estate "bubble" being over. Many say that is not true and we are in for a still longer, but perhaps slower, rise in Central California real estate prices. Still others say even if the "bubble" is over, many people still will be left with a highly appreciated home. For many people, the home is their primary asset and the increase in home prices put them over the threshold for owing federal estate taxes at death. (Currently $2.0M passing to someone other than a surviving spouse.)
Estate planners have many techniques to try and reduce death taxes. Many people are familiar with how certain types of revocable trusts can be used by a married couple to take advantage of the threshold twice — once in each spouse’s estate — to exempt up to $4.0M from death taxes. Here is another technique.
"QPRTS" — The Basics: A "QPRT" is a "Qualified Personal Residence Trust." Under the plan, the taxpayer forms an irrevocable trust and the home (or maybe a family vacation home) is put into it. The taxpayer could be a single person or a married couple, but this technique is most often used following the first death in a married couple.
The taxpayer retains the right to live in the home until expiration of a fixed time period. When the time period expires, the home ownership passes from the trust to someone else, presumably the taxpayer’s children or grandchildren. In effect, the taxpayer has made a current gift that does not take full effect until the time period expires.
Hey, That’s My House. Why Give it Away? The point of the QPRT is that the gift’s value is heavily discounted based on current interest rates and the time period until the title passes to final beneficiaries. For example, at current interest rates, a $1.0M home put into such a trust with a 12 year term would have a $370K value — even though the home might appreciate in value to $1.5M by the time the gift vests in the final beneficiaries. This has the effect of passing all that future appreciation to the next generation without any death taxes and is the reason why people use QPRTS.
But What Happens if I Outlive the Trust? Am I Homeless? If the taxpayer outlives the trust, then some arrangement will need to get made. If the home involved is the treasured family vacation home, then passage to the children usually is not a problem as it probably was shared by most or all family members anyway. If it is the taxpayer’s personal residence then the taxpayer will need to pay fair market rent.
At first, paying rent to your children for the privilege of living in your own house seems pretty galling, but the rent can be viewed as simply another way to pass wealth down to the next generation.
Isn’t This Awfully Complex? Yes, it is. This article is designed to give only the basics, and QPRTS definitely are not for everyone. But in the right situation they are another powerful tool to minimize the hurt that the tax man inflicts.
